Lesotho’s daunting pressures

ALTHOUGH the IMF in its recent review mission lauded Lesotho’s implementation of the Extended Credit Facility (ECF) as being on track, fiscal consolidation is likely to continue to be the main challenge facing Lesotho given the current global economic developments and profligate spending practices.

It is only through strong leadership and political will across all sectors of government that meaningful progress can be achieved.

A quick look at the recent past performance of the fiscus provides a number of important insights into Lesotho’s deepening financial vulnerability.

As shown in Figure 1 below, customs revenue has ceased to be the main source of revenue. At its peak in 2006/07 it constituted close to 40 percent of GDP.

However, by 2010/11 that ratio had been precipitously reduced to a mere 16 percent and is projected to come down to 15 percent in 2011/12.

Although projected to improve in the coming years it is starkly clear that the halcyon days are over.

What is even more worrying is that even these projections may not materialise given the convulsions the global economy is currently going through. A fundamental question remains: What measures are being taken to address these precarious
conditions?

It is again clear from Figure 1 that domestic tax revenue (total tax revenue excluding customs revenue) has performed relatively well during the review period.

It has grown from 14 percent of GDP in 2001/02 to 22 percent projected for 2011/12.

This has mainly been a result of the tax structure and administration reforms that the government introduced including the establishment of the Lesotho Revenue Authority (LRA) almost 10 years ago.

It should be noted however that despite its impressive performance, especially in the past two years, domestic tax revenue (as a percentage of GDP) has remained relatively flat since 2007/08.

This is an indication that the earlier years’ robust collections were mainly a function of new efficiencies introduced in tax administration and tax structures. Once these efficiencies were achieved, growth in tax collection became dependent mainly on the size of the tax base (assuming no increase in tax rates).

If GDP growth could be taken as a proxy for tax base expansion one sees a sobering picture. Lesotho has experienced a roller-coaster ride when it comes to the growth of its economy. It has been very unstable over time but on average staying around three percent per annum.

At this level it is half of sub-Saharan Africa growth rate of six percent.

For a developing country like Lesotho to make a meaningful impact on its economy it has to grow by at least seven percent annually (in real terms). It is therefore obvious that a three percent growth rate is very low to reasonably expand the
economy’s tax base. More has to be done to grow the economy.

Another question then pops out: What is being done to grow the economy?

Is there anything in the pipeline beyond the Metolong Project and Phase Two of the Lesotho Highlands Water Project?

Non-tax revenue is usually very small as a percentage of GDP compared with the first two revenue sources.

It mainly constitutes administrative fees and fines. After remaining on average at six percent of GDP for the past nine years, it only showed some revival in 2010/11 when it jumped to eight percent.

This only happened after an upward review of administrative fees and fines which had remained unchanged for years.

As a matter of policy, it is instructive to note that administrative fees and fines should not be regarded as a source of revenue but should be set at levels that address social distributional concerns through reasonable cost recovery.

Failure to review them regularly is not only a sign of ineptitude but it also unnecessarily burdens the hapless public who at the end of the day have to endure heavy adjustments of well over 100 percent as has now happened.

The last contributor to government coffers is grants. These have on average been hovering around three percent of GDP in the past 10 years.

According to Fig.1 they are expected to surge to eight percent of GDP in 2010/11.

The IMF mission estimates show that their growth will remain strong for the next three years at 9.6 percent, 12.4 percent and 7.9 percent, respectively; thanks to the US government’s Millennium Challenge Corporation (MCC) for its
gratuitous funding of the Metolong project and other smaller projects.

Unfortunately when the inflows from MCC dry up in 2013 the situation will immediately revert to its usual three percent of GDP. Grants are a very fickle source of revenue as they depend to a large extent on the magnanimity of donors.

It is however worrying that Lesotho is one of the countries that have lost two very important donors, namely; Britain through its Department for International Development (DFID) and the World Food Programme (WFP).

The British government has decided to cut its financial aid through DFID to a number of least developed countries, one reason ostensibly being donor fatigue.

The WFP could have done so for the same reason.

These developments behove Lesotho to immediately stop doing business as usual and look for innovative ways to mobilise grants and enhance donor aid productivity.
By definition, Lesotho being a least developed country needs lots of donor support. What then are the strategies being pursued to spur donor support?

On the expenditure side the situation is like as depicted in Fig. 2.

Since 2005/06 total expenditure has been on a steep rise and it is very interesting to note that as a percentage of GDP it breached the 60 percent mark in 2009/10.

In terms of international norm government expenditure is supposed to be at least around 30 percent of GDP in order for a country to manage its balance of payments and debt sustainably.

It goes without saying that Lesotho’s public expenditure is way out of line. It is clear that total expenditure tracks current expenditure which since 2005/06 has been well above 40 percent of GDP.

An argument can be advanced that since Lesotho is a developing country, it may probably not be surprising that government expenditure constitutes a large chunk of national output because of the small size of its private sector.

The challenge then would be to grow the private sector contribution. In Lesotho the contribution of the public expenditure to national output has kept on rising.

One can also hasten to mention that government expenditure as a share of GDP could also be high because of poor growth in GDP.

According to IMF estimates, expenditure is expected to be cut to 47 percent of GDP in 2015/16. The next question then would be: Is the money being productively or unproductive spent?

The main driver of government expenditure is recurrent expenditure. This comprises mainly maintenance expenditure on government assets, administration expenses and compensation of government employees.

After being contained somewhat in the last fiscal year things look to be slipping again this year.

The main culprit is expenditure on wages and salaries. Since 2009/10 to-date it does not show any signs of letting up.

According to a recently published IMF staff paper entitled In the Wake of the Global Economic Crisis– Lower SACU Revenue Lesotho leads the pack in the whole of sub-Saharan Africa with highest expenditure on salaries and wages.

It is also the highest in the Sacu region on current expenditure. A telling parting shot of the IMF paper reads “The ballooning wage bills in recent years reflect a combination of increases in civil service jobs and significant hikes in wages, which may also have affected reservation wages and employment in the private sector”. Based on the foregoing, whether or not teachers’ salaries have to be adjusted or that new positions in the army have been created, as reasons for increase in ages and salaries in 2011/12 they fall far short to answer the bigger problem the country is facing.
One doubts if there could have been any change had these reasons never occurred.

By contrast, government seems to have done relatively well in cutting down the “other goods and services” which have come down from 16 percent of GDP in 2008/09 to 10 percent in 2010/11.

But it is equally important to highlight the point that government is not doing itself any good when it comes to what one may call “conspicuous consumption” at its higher echelons. Expensive and flashy cars are the main case in point. A deliberate policy stance must be taken to stop ostentatious expenditure by government.

What continues to be still stubbornly high are “transfers and subsidies” projected at 15 percent of GDP in 2011/12.

This category of expenditure includes subventions and transfers as well as pensions and gratuities. The authorities need to work hard to ensure that expenditure on subventions and transfers is efficiently and productively utilised.

Having heard stories of serious misallocation of funds at higher institutions of learning such as NUL, it goes without saying that authorities must be on top of the situation as to where such funds are allocated and how they are used.

The culture of disclosure and accountability must be inculcated and practised across all sectors of the public service.

It is gratifying to observe a strong performance of capital expenditure after a long period of stagnating below 10 would of GDP. From 13 would of GDP in 2006/07 capital expenditure is projected to be 22 would of GDP in 2011/12. This is
commendable as capital expenditure induces growth and employment which are what this country needs desperately.

However, the current tight financial situation may soon put paid to this positive development unless more donor aid flows continue.

Traditionally the country’s development programme has been more biased towards social development projects.

The fiscal pressures facing government are daunting both in the short- and medium-term.

The problem is that government receipts fall short of its outlays. In the short-term three things can be done: increase taxes, cut expenditure or do a mixture of both. Increasing taxes is not a preferred option when the economy is struggling. The only option is to cut consumption expenditure.

It has been shown above that current expenditure in Lesotho is disproportionately high and has to be reduced to normal levels. It would be wise if expenditure cuts would go in tandem with mobilisation of more foreign aid.

In the medium term Lesotho needs aggressive “big push” industrial development and growth of its private sector.

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